The signalling role of the government-market relationship in debt financing: Evidence from China

A proper government-market relationship (GMR) serves as an important institutional environment for investors to make rational economic decisions. Theoretically, by embedding the GMR into the signalling model, this study finds that (a) the improvement in the GMR can enable high-return firms to obtain more debt financing and (b) the mechanism is that a higher GMR, as a signal, increases the accuracy of investors' inference on firms' returns. Using data of Chinese A-share listed firms (2009-2019) and the two-step system GMM, this study empirically demonstrates that the GMR does help investors infer firms' returns more accurately, thus enlarging the debt financing scales of high-return firms. Moreover, the positive impact of the GMR on high-return firms is significant within privately owned firms and more substantial in markets characterised by lower industry concentration.